Pension reform paves the way for the targetdate funds market in Mainland China

Transcription

1 Invesco Investment Insights Pension reform paves the way for the targetdate funds market in Mainland China November 2018 Nixon Mak Head of Hong Kong Pensions and Solutions Strategist, APAC, Invesco Key takeaways Recent guidelines issued by the Chinese government on the individual commercial pension market has opened up China s fund-of-funds market, with target-date funds expected to be one of the more popular products Initial estimates put the target-date funds market size to range between 112 billion yuan to 1.88 trillion yuan The fund-of-funds market is likely to grow even more as China s population ages, household incomes rise, and with continued policy reforms China recently saw the introduction of the first pension-target funds, marking a key milestone in the growth of the Mainland s individual commercial pension market and its asset-management industry. This inaugural batch of 14 funds are all funds of funds (FOF) that pursue either target-date or target-risk strategies in accordance with guidelines from the China Securities Regulatory Commission (CSRC). Invesco collaborated with a team of students from the Cambridge Judge Business School s Master of Finance program and conducted a study on what these developments could mean for China s fund-of-funds market. The team believes that target-date funds will be one of the more popular pension products in China, given their unique allocation structure and strategy they pursue. Based on the study, these funds will likely reach a size of up to 1.88 trillion yuan. Pension reform paves the way for the target-date funds market in Mainland China 1

2 But these figures are only early estimates we see upside potential for the broader market for individual commercial pension schemes as Chinese households transition from savings to investments as a means to preserve and grow wealth. At the same time, we also anticipate that the individual commercial pension market will receive more policy support from Beijing so that it can act as a reliable and robust system to meet the retirement needs of China s ageing population. As at end 2017, China s elderly dependency ratio was at 15.9%, almost a full percentage point higher than 2016 s ratio of 15% 1. We think there is great potential for stakeholders to take advantage of the growth in China s individual commercial pension market. Growing the third segment with target-date funds Chinese policymakers recently introduced schemes to grow the individual commercial pension market. The market, which is made up of retirement insurance plans and retirement investment products, is seen as the third segment of the pension system (Figure 1). This comes as the first two segments a government-run segment and an enterprise-annuity one are facing increasing strain. Figure 1: China s pension system China's pension system First segment Government-run basic pension schemes Second segment Annuity schemes Third segment Individual commercial pension schemes Urban basic pension Enterprise annuity Commercial pension insurance (Taxdeferred insurance) Pension-target funds (currently limited to fund of funds) Rural basic pension Occupation annuity Target-date funds Target-risk funds Among the introduced schemes for the third segment were CSRC s guidelines on what structures pensiontarget funds, also known as retirement investment funds, should take (Table 1). The funds should be constructed as FOFs, or other approved forms, and should only pursue target-date, target-risk, or other strategies approved by the CSRC. CSRC s preference for FOFs should not come as a surprise. Pension investments tend to place more emphasis on risk control than on the pursuit of returns. In addition, they generally have higher expected returns at a given level of risk exposure. As a combination of funds, FOFs can offer investors a more diversified portfolio. Among the different types of funds of funds, we believe that target-date funds will be popular in China. Such funds follow glide path structures that rebalance their allocations to become less concerned with growth and more focused on income as the funds approach their target dates. Their glide path allocation structures mean that even those without in-depth financial knowledge will find them easy to understand. This makes them attractive for retirement planning. Table 1: Recent developments in China s individual commercial pension segment June 2017: State Council provides guidelines on introducing commercial pension insurance products. March 2018: CSRC introduces guidelines on pension-target funds. May 2018: Tax-deferred insurance pilot project launched in selected cities. August 2018: CSRC approves the launch of pension-target funds in the form of fund of funds. 1. National Bureau of Statistics of China, retrieved on Oct. 17, Elderly dependency ratio is defined as the number of elderly dependents aged 65 and above divided by the number of working-age persons from 15 to 64 years old. 2 Pension reform paves the way for the target-date funds market in Mainland China

3 China s target-date funds market How big will the target-date funds market in China become? On this point, it is useful to take reference from the US experience. Its pension market is now mature, and target-date funds proved to be widely used. Over the past 10 years, US target-date mutual funds received net inflows of US$521 billion 2. They ended the year 2017 with US$1.1 trillion of assets, some US$229 billion, or 25.8% higher from a year ago 3. The team estimates the potential size of China s target-date funds market by referencing publicly-available data 4 to determine the range of number of individuals who would invest into target-date funds, and how much each of them would contribute per month. This gives us a current market-size estimation of between 112 billion to 1.88 trillion yuan (see Figure 2) for the full year, based on 2017 data. Figure 2: Estimating the potential market size of target-date funds in China Sensitivity Analysis Additional contribution per person per month (RMB) Participants (Million) Bn ,176 1, ,254 1,568 1,881 Of course, the upper bound of 1.88 trillion yuan is by no means definitive. In the US, private-pension plans, including target-date funds, held some US$25.13 trillion of assets between them in 2016, representing 134.9% of the country s GDP (Figures 3 and 4). With only US$ billion in assets representing 1.5% of GDP, the market for China s private-pension plans has a lot of room to grow 5. At the same time, disposable income per capita in China are rising at a rate faster than GDP growth, registering a compounded annual growth rate of 7.24% from 2013 to As Chinese households grow richer, they are likely to shift from savings to investments as a means to preserve or increase wealth. As such, assets in pension funds are expected to grow rapidly. Figure 3: Pension funds' assets (Segment 2 + Segment 3) (Trillion US dollars, ) Source: OECD. U.S. (LHS) China (RHS) U.S. trendline (LHS) China trendline (RHS) Investment Company Fact Book, Investment Company Institute Investment Company Fact Book, Investment Company Institute. 4. Annual Report on the State of Human Resource and Social Security Development in China 2017, Ministry of Human Resource and Social Security, China. 5. Pensions at a Glance 2017 OECD and G20 Indicators, OECD. 6. National Bureau of Statistics of China. Pension reform paves the way for the target-date funds market in Mainland China 3

4 Figure 4: Total pension funds' assets (Segment 2 + Segment 3) as a perentage of GDP (Total % of GDP, ) 160% 2.0% 131% 140% 1.8% 120% 119% 111% 1.6% 120% 1.4% 100% 94% 1.2% 80% 68% 1.36% 1.0% 60% 55% 0.8% 40% 0.68% 0.6% 0.4% 20% 0.36% 0.2% 0% 0.0% U.S. (LHS) China (RHS) U.S. trendline (LHS) China trendline (RHS) Source: OECD. The way forward Despite these favorable trends, the road ahead for China s target-date funds market is not yet set in stone. Currently, there are restrictions on underlying fund size, the use of derivatives, and access to foreign markets. At the same time, target-date funds still do not enjoy tax incentives similar to the tax-deferment plan that Beijing has previously rolled out for pension insurance schemes. We look forward to more policy clarity on tax incentives for target-date funds. Nevertheless, what Beijing has done so far keeps us optimistic of the target-date funds market s potential. Pension reform has been in the spotlight for many years, and the government s recent guidelines for the individual commercial pension segment underscore its desire to develop the segment further, which bodes well for the target-date funds market, and the wider pension-target funds market. We think Beijing could also extend tax-deferment policies (which are now in a pilot phase for individual commercial insurance plans in selected cities) to pension-target funds to ensure parity within the development of the individual commercial pension segment. At the same time, deepening reforms in the asset-management industry are also key to developing the target-date funds market. We believe that, in due time, there will be more and more financial products that will help in developing the target-date funds market further. China s target-date funds market, FOF market and its individual commercial pension segment are still in their initial stages of development. However, despite the abovementioned limitations, recent moves made by Beijing have shown the government s desire to develop the markets in order to meet retirement needs in the country. Already, domestic asset managers have expressed keen interest in introducing target-date and target-risk funds that meet the Chinese government s requirements, while international asset managers are positioning themselves for the eventual development of the individual commercial pension segment. Stakeholders looking to tap into the market potential and opportunities have reasons to be optimistic about future opportunities. 4 Pension reform paves the way for the target-date funds market in Mainland China

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